The Economic Consequences of Homelessness in The US

Shock
Cap
borrower) upward movement of mortgage loan interest rates and its effect
on borrowers. This is the major risk of an ARM, as this can lead to severe
financial hardship for the borrower.
Any clause that sets a limitation on the amount or frequency of rate
changes.
Loan Caps
Loan caps provide payment protection against payment shock, and allow a measure of
interest rate certainty to those who gamble with initial fixed rates on ARM loans. There
are three types of Caps on a typical First Lien Adjustable Rate Mortgage or First Lien
Hybrid Adjustable Rate Mortgage.
Initial Adjustment Rate Cap: The majority of loans have a higher cap for initial
adjustments that's indexed to the initial fixed period. In other words, the longer the initial
fixed term, the more the bank would like to potentially adjust your loan. Typically, this
cap is 2–3% above the Start Rate on a loan with an initial fixed rate term of three years
or lower and 5–6% above the Start Rate on a loan with an initial fixed rate term of five
years or greater.
Rate Adjustment Cap: This is the maximum amount by which an Adjustable Rate
Mortgage may increase on each successive adjustment. Similar to the initial cap, this
cap is usually 1% above the Start Rate for loans with an initial fixed term of three years
or greater and usually 2% above the Start Rate for loans that have an initial fixed term
of five years or greater.
Lifetime Cap: Most First Mortgage loans have a 5% or 6% Life Cap above the Start
Rate (this ultimately varies by the lender and credit grade).
Industry Shorthand for ARM Caps
Inside the business caps are expressed most often by simply the three numbers
involved that signify each cap. For example, a 5/1 Hybrid ARM may have a cap
structure of 5/2/5 (5% initial cap, 2% adjustment cap and 5% lifetime cap) and insiders
would call this a 5-2-5 cap. Alternatively, a 1-year ARM might have a 1/1/6 cap (1%
initial cap, 1% adjustment cap and 6% lifetime cap) known as a 1-1-6, or alternatively
expressed as a 1/6 cap (leaving out one digit signifies that the initial and adjustment
caps are identical).
Negative amortization ARM caps
See the complete article for the type of ARM that Negative amortization loans are by
nature. Higher risk products, such as First Lien Monthly Adjustable loans with Negative
amortization and Home equity lines of credit (HELOCs) have different ways of
structuring the Cap than a typical First Lien Mortgage. The typical First Lien Monthly
Adjustable loans with Negative amortization loan has a life cap for the underlying rate
Page 226 of 289